WEAKNESSES

Lack of productivity in the extractive and manufacturing industries (excluding automotive)

High level of non-performing loans (19.6% in September 2016) hampering the profitability of banks, ¾ of which are foreign

Strong euroisation of credit (70%)

Declining population

RISK ASSESSMENT

Return to growth confirmed

After nearly seven years of weak or negative growth, in 2016 growth returned to its pre-crisis level. 2017 is expected to strengthen this recovery, thanks, notably, to the continued buoyancy of foreign investments in industry and infrastructure, as well as resurgent public investment

Household consumption is expected to revive as employment picks up, despite still high unemployment and a significant informal jobs market (almost 23% of total employment). Domestic demand will benefit from a return to growth in bank lending thanks to lower interest rates. Credit will, however, be limited by still high levels of non-performing loans, especially with public-sector banks. External trade is still expected to make a positive contribution thanks to good manufacturing export performance, especially of cars.

Necessary public sector reform

Despite holding parliamentary elections in 2016, the authorities continued with the fiscal restructuring begun in 2015 under agreement concluded with the IMF in February 2015 for three years. The deficit is expected to narrow further in 2017. Income will benefit from growth, while the decline in current spending is likely to continue as civil service jobs are cut and with the implementation of pension reform. The reduction in the number of public-sector companies, often poorly managed and, therefore, costly, will also play a key role. However, the restructuring is a long way from being vested or completed. Wage moderation could come to an end and pension reform may not be fully implemented. The functioning of the administration still leaves plenty to be desired. The financing of local authorities, in deficit, needs to be reformed. The restructuring of many state-owned enterprises in transport, energy, the mining industry and manufacturing, sometimes prerequisite to privatisation, or the winding up of those in the biggest trouble, is delayed. This is critical to initiating the alleviation of the heavy burden of public debt, which could rapidly become untenable if growth declines and the dinar depreciates against the dollar and the euro (33 and 46% respectively of the outstanding debt). At an opportune time, the cost of servicing the debt has moderated because of the favourable conditions granted by international and bilateral funders, such as the United Arab Emirates in October 2016.

A current account deficit financed by FDIs

Trade in goods is broadly running a deficit in excess of 10% of GDP in 2016. Exports are dominated by automotives, agricultural products, metals and a large variety of medium to low value-added manufacturing products, mostly destined for the neighbouring Balkan countries. A large part of the deficit is explained by imports associated with foreign investments. The services surplus (almost 3% of GDP) and, to a greater extent, the remittances by emigrant workers (9%) offset a good part of the trade deficit. The remaining current account deficit is largely financed by foreign direct investments, both in industry (e.g. Fiat in automotive) and in transport and energy infrastructure (China, Russia). The surplus helps boost reserves, which on top of the availability of an IMF credit facility until February 2018 and a swap agreement with China, enable the country to protect itself against an exchange rate crisis which would weaken an economy with a high debt burden in euro, despite efforts to promote borrowing in dinar. External debt is in excess of 80% of GDP, of which 60% is held by the pubic sector, but it is medium term, cheap and partially linked to FDIs.

2016 elections legitimise the continuation reforms

The April 2016 early elections returned Prime Minister Aleksandar Vučić and his coalition made up of the Progressive Party (SNS) and the Socialist Party to office, who now have renewed legitimacy to continue the public sector reforms until 2020. The business climate is still hampered by administrative delays, corruption and political interference. Negotiations with a view to EU accession will continue, even if the normalisation of relations with Kosovo is delayed and those with Bosnia Herzegovina are complicated by the attitude of the Bosnian Serbs.